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Science and Engineering Indicators 2004
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Chapter 4:
National R&D Trends

Federal R&D Performance and Funding

Technology Linkages: Contract R&D, Federal Technology Transfer, and R&D Collaboration
International R&D Trends and Comparisons
R&D Investments by Multinational Corporations
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Figure 4-8

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Figure 4-9

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Figure 4-10

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Figure 4-11

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Figure 4-12

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Figure 4-13

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Figure 4-14

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Figure 4-15

U.S. and International Research and Development: Funds and Technology Linkages

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Federal R&D Performance and Funding

Federal R&D Performance
Federal R&D Funding by National Objective
R&D by Federal Agency
Federal R&D Funding by Performer and Field of Science or Engineering
Federal R&D Tax Credit

When Nelson (1959) and Arrow (1962) first laid out their seminal economic arguments that the private sector generally invests less than the socially optimal amount in R&D, the Federal Government funded almost twice as much R&D as did the private sector. Since then these relative positions have reversed, but the argument in support of public funding for R&D is still valid more than 40 years later. Briefly, the argument is that the returns on investment in R&D cannot be fully appropriated by an investor because of the very nature of the primary output of R&D: knowledge. This being the case, firms will only invest in those R&D projects from which, through secrecy, patents, or some other means, they are able to recoup their investment plus an acceptable profit. The government endeavors to correct this market failure through a number of policy measures, the most direct of which is the funding and performance of R&D that would not or could not be financed or performed in the private sector. Thus, despite its declining share in total R&D funding, the Federal Government still supports the majority of basic research in the United States. This section examines the Federal Government's role in performing, funding, and stimulating R&D in the private sector through tax policy.

Federal R&D Performance top of page

Federal laboratories and FFRDCs performed $34.1 billion of total U.S. R&D in 2002, an average annual increase in real terms of 10.4 percent from the 2000 level of $27.1 billion. Among individual agencies, DOD continued to perform the most intramural R&D and is expected to account for more than half of all Federal obligations for intramural R&D in the future. In fiscal year 2003, DOD is expected to perform more than twice the R&D of the second largest R&D-performing agency, the Department of Health and Human Services (HHS), which performs most of its intramural R&D at the National Institutes of Health (NIH) (table 4-10 text table).

The Department of Energy (DOE) sponsors the most FFRDCs of any agency—16 of the 36. These 16 FFRDCs performed a total of $7.5 billion of R&D in FY 2001, approximately three-fourths of all the R&D performed by FFRDCs (appendix table 4-26 Microsoft Excel icon). First established during World War II, FFRDCs are unique organizations that help the United States government meet special long-term research or development goals that cannot be met as effectively by in-house or contractor resources. (See sidebar, "Rationales for Federal Laboratories and FFRDCs.") According to the Federal Register, an FFRDC is required "to operate in the public interest with objectivity and independence, to be free from organizational conflicts of interest, and to have full disclosure of its affairs to the sponsoring agency" (NARA 1990). Total R&D performed by all FFRDCs (estimated at $10.3 billion in 2002) has grown at a real annual rate of 4.5 percent from its level of $9.1 billion in 2000.

Federal R&D Funding by National Objective top of page

In 2002 the Federal Government funded approximately twice as much R&D as that performed in Federal labs and FFRDCs. This support is estimated to be $78.2 billion, reflecting a 6.7 percent average real increase per year since 2000. This funding supports a wide range of national objectives (also termed budget functions); is administered by many Federal agencies; and flows to R&D performers in all sectors, from industry to universities and colleges and to nonprofit organizations.

Defense-Related R&D

Defense-related R&D, as a proportion of the nation's total R&D, has shifted substantially. From 53.6 percent in 1959, it declined to a relative low of 24.3 percent in 1980, climbed to 31.7 percent by 1987, and, coinciding with the end of the cold war, fell substantially afterward, reaching a low of 13.5 percent in 2000 (figure 4-8 figure).[25] Despite this dramatic decline relative to nondefense R&D, the absolute level of defense R&D in 2000 still exceeded that in any year from 1953 to 1982, after adjusting for inflation. In 2000, defense-related R&D as a share of U.S. R&D began to grow again, subsequently reaching 14.9 percent of the nation's total R&D in 2002.

In 1980 the Federal budget authority for defense-related R&D was roughly equal to that for nondefense R&D[26] (figure 4-9 figure). Although the amount of defense-related R&D has fluctuated based on changing national security concerns over the past 20 years, nondefense R&D has increased since 1983. For FY 2001 the budget authorities for defense R&D and for nondefense R&D had nearly reached parity at $45.7 and $41.0 billion, respectively. The terrorist attacks of September 11, 2001, dramatically reversed this trend and in the proposed FY 2004 budget, $66.8 billion is slated for defense-related R&D and $51.2 billion is reserved for nondefense R&D. (See sidebar, "Federal R&D for Countering Terrorism.") These amounts reflect increases of 46.2 percent in defense-related R&D and 24.7 percent in nondefense R&D over the FY 2001 levels.

Civilian-Related R&D

R&D accounts for 13.4 percent of the FY 2004 Federal nondefense discretionary budget authority of $383.0 billion.[27] Although this is less than that reserved for defense activities—16.7 percent of the $399.2 billion discretionary budget authority in FY 2004—over 90 percent of Federal basic research funding is for nondefense functions, accounting for a large part of the budgets of agencies with nondefense missions such as general science (NSF), health (NIH), and space research and technology [National Aeronautics and Space Administration (NASA)] table 4-11 text table, appendix table 4-29 Microsoft Excel icon). Because many different agencies can support R&D programs with the same basic objective, it is useful to aggregate Federal R&D into budget functions to assess broad trends in national R&D priorities.

Space-related R&D as a percentage of total R&D reached a peak of 20.8 percent in 1965, during the height of the nation's efforts to surpass the Soviet Union in space exploration (figure 4-8 figure). In terms of the nation's R&D performance, space-related R&D accounted for an estimated 2.5 percent of total R&D in 2002.[28] The loss of the Space Shuttle Columbia and its crew of seven on February 1, 2003, has resulted in uncertainty as to the future focus and intensity of manned missions in the U.S. space-related R&D effort. In the President's FY 2004 budget, crafted before the disaster, 55.2 percent of NASA's $15.5 billion discretionary budget was reserved for R&D.

The most dramatic change in national R&D priorities over the past 20 years has been the growing importance of health-related R&D. As illustrated in figure 4-9 figure, health-related R&D rose from representing roughly a fourth (27.6 percent) of the Federal nondefense R&D budget allocation in FY 1982 to more than half (54.5 percent) by FY 2003. Most of this growth occurred after 1998 when NIH's budget was set on a pace to double by 2003 (Meeks 2002).

In contrast to the steep growth in health-related R&D, the budget allocation for general science R&D has grown relatively little in the past 20 years. In fact, the growth in general science R&D (figure 4-9 figure) is more the result of a reclassification of several DOE programs from energy to general science in FY 1998 than the result of increased budget allocations. The formation of the Department of Homeland Security (DHS) and the coincident reclassification of much of its formerly civilian R&D activities as defense R&D is a more recent example of how R&D budget function classifications can change when the mission or focus of funding agencies changes.

The Federal S&T Budget

In recent years, alternative concepts have been used to isolate and describe fractions of Federal support that could be associated with scientific achievement and technological progress. In a 1995 report, a National Academy of Sciences (NAS) committee proposed an alternative method of measuring the Federal Government's S&T investment (NAS 1995). According to the committee members this approach, called the Federal science and technology (FS&T) budget, might provide a better way to track and evaluate trends in public investment in R&D. The FS&T concept differed from Federal funds for research in that it did not include major systems development supported by DOD and DOE, and it contained not only research but also some development and some R&D plant.

Beginning with the FY 2000 budget, the Office of Management and Budget (OMB) has presented its concept for an FS&T budget (figure 4-11 figure). Whereas the NAS FS&T compilation included only R&D, OMB's FS&T budget was constructed of easily tracked programs and included some non-R&D programs, such as NSF education programs and staff salaries at NIH and NSF.

In the 2004 Budget of the United States, OMB's FS&T budget is less than half of total Federal spending on R&D because it excludes funding for defense development, testing, and evaluation. It includes nearly all budgeted Federal support for basic research in FY 2004, more than 80 percent of federally supported applied research, and about half of federally supported nondefense development (U.S. OMB 2003b).

As shown in figure 4-12 figure, Federal R&D in the 2004 budget proposal, which includes expenditures on facilities and equipment, would reach a level of $123 billion. Of this amount, $54 billion would be devoted to basic and applied research alone. The FS&T budget would reach $59 billion and would include most of the research budget. However, differences in the definition of research and FS&T imply that not all research would be included in FS&T and vice versa. Moreover, a small proportion (10 percent) of FS&T funds would fall outside the category of Federal R&D spending.

R&D by Federal Agency top of page

The Federal agencies with the largest R&D expenditures vary considerably in terms of how their R&D budgets are spent.[29] Agency-reported data reveal remarkable diversity in terms of the character of the R&D, who performs the R&D, and how R&D is allocated to performers. These differences reflect the diverse missions, histories, and cultures of the agencies.

Department of Defense

According to preliminary data provided by the DOD before budget developments brought about by the war in Iraq, DOD will obligate $45.0 billion, more than any other Federal agency, for R&D support in FY 2003. DOD's support represents 45.6 percent of all Federal R&D obligations (table 4-10 text table). More than 85 percent of these funds ($38.5 billion) will be spent on development, with $33.0 billion slated for major systems development.[30] Industrial firms are expected to perform 65 percent of DOD-funded R&D in FY 2003. These firms will account for an even greater share of development funds (71 percent). DOD's R&D obligations will constitute more than 80 percent of all Federal R&D obligations to industry in FY 2003. Of DOD-funded R&D not performed by industry, government laboratories and FFRDCs are expected to perform 85 percent ($13.3 billion). According to OMB, 63 percent of DOD's basic and applied research funding was allocated using a fully competitive merit review process in 2002.[31]

Department of Health and Human Services

HHS, the primary source of Federal health-related R&D funding (largely through NIH), will obligate the second largest amount for R&D in FY 2003 at $27.6 billion, most of which ($14.5 billion) will be for basic research. In FY 2003, HHS is expected to provide universities and colleges, the primary recipients of HHS funding, with $15.5 billion, or 67.4 percent of all Federal R&D funds obligated to universities and colleges (table 4-12 text table). HHS will provide 75.6 percent ($4.7 billion) of all Federal R&D funds obligated to nonprofit institutions, with most of these funds going to such large research hospitals as Massachusetts General Hospital and the Dana-Farber Cancer Institute (NSF/SRS 2002). In 2002, fully competitive merit review processes were used to allocate 81 percent of HHS's basic and applied research funding.

National Aeronautics and Space Administration

The third largest agency in terms of R&D support is NASA, with R&D obligations expected to total $8.6 billion in FY 2003; 28.6 percent ($2.5 billion) will be earmarked for basic research. Although not defense related, much of the development work sponsored by NASA relies on industrial performers similar to those funded by DOD. NASA is the second largest source of industrial R&D funds, an expected $3.6 billion in FY 2003. Roughly 82 percent of NASA-funded R&D is performed either by industrial firms or in Federal labs or FFRDCs. Academic and nonprofit institutions perform the remainder. In 2002, 85 percent of NASA's basic and applied research funding was allocated using a fully competitive merit review process.

Department of Energy

Of the large R&D-funding agencies, DOE relies the most on the R&D capabilities of FFRDCs, obligating 61.1 percent of its estimated $7.5 billion in FY 2003 R&D funding to FFRDCs. DOE is the largest funding source of the 36 FFRDCs, accounting for 61.2 percent of all Federal R&D obligations to FFRDCs in FY 2003. DOE's high reliance on its intramural laboratories and FFRDCs explains why the share of its research funding that was allocated using a fully competitive merit review process in 2002 was relatively low at 23 percent.

National Science Foundation

NSF is the Federal Government's primary source of funding for general S&E R&D and is expected to fund $3.4 billion in R&D in FY 2003. Of these funds, 94.2 percent are for basic research. NSF is the second largest Federal source of R&D funds to universities and colleges and is expected to provide $2.8 billion to academic researchers in FY 2003. In 2002, 95 percent of NSF's basic and applied research funding was allocated using a fully competitive merit review process.

Other Agencies

DOD, HHS, NASA, DOE, and NSF are expected to account for 93.4 percent of all Federal R&D obligations in FY 2003, with 93.9 percent for basic research, 85.6 percent for applied research, and 97.8 percent for development. Unlike those Federal agencies, the Department of Agriculture (USDA), DOC, and Department of the Interior (DOI) obligate most of their R&D funds to mission-oriented R&D conducted in their own laboratories, which are run by the Agricultural Research Service, the National Institute for Standards and Technology (NIST), and the U.S. Geological Survey, respectively.

Federal R&D Funding by Performer and Field of Science or Engineering top of page

Federal Funding to Academia

The Federal Government has long provided the largest share of R&D funds used by universities and colleges. In the early 1980s, Federal funds accounted for roughly two-thirds of the academic total. That share dropped to 57.7 percent in 2000 but is expected to rise to 58.5 percent in 2002. Although this share of funding has not changed much in recent years, the actual amount of funding in real terms increased on average 5.1 percent per year between 1985 and 1994, 3.4 percent per year between 1994 and 2000, and 7.3 percent per year between 2000 and 2002. For more information on academic R&D, see chapter 5.

Federal Funding to Industry

The greatest fluctuation in Federal support as reported by R&D performers occurred in obligations to industry, ranging from a low of $10.4 billion (constant 1996 dollars) in 1955 (when the NSF time series began) to a high of $37.1 billion in 1987 (figure 4-13 figure). Between 1998 and 2002 Federal funds for industrial R&D activities declined an annual average of 7.8 percent in real terms. Overall the Federal share of industry's performance has been steadily declining since its peak of 56.7 percent in 1959. Beginning in 1989, the amount of federally funded R&D reported by industry began to diverge from the amount reported by the Federal Government. For details on this discrepancy, see sidebar, "Tracking R&D: Gap Between Performer- and Source-Reported Expenditures.''

The industries that report the greatest amount of Federal R&D funding include the computer and electronic products industry; the professional, scientific, and technical services industry; and the aerospace industry. Companies in these three industries accounted for 87 percent of all federally funded industrial R&D reported in 2001. In contrast, this same group accounted for only 37 percent of all company-financed R&D in 2001. Approximately half of the $7.9 billion of R&D performed by companies classified in the aerospace industry came from Federal sources in 2001. In comparison, companies classified in the pharmaceuticals and medicines industry reported no federally funded research in 2001.

Federal Research Funding by Field

According to preliminary estimates, Federal obligations for research alone (excluding development) will total $53.4 billion in FY 2003. Life sciences will receive the largest portion of this funding (53.7 percent, or $28.7 billion), most of which will be provided by HHS, followed by engineering (17.2 percent), physical sciences (9.7 percent), environmental sciences (7.3 percent), and mathematics and computer sciences (5.4 percent) (figure 4-14 figure). Social sciences, psychology, and all other sciences will account for another 2.0, 1.8, and 3.0 percent, respectively.

HHS, primarily through NIH, will provide the largest share (50.2 percent) of all Federal research obligations in FY 2003. The next largest contributor will be DOD (12.2 percent), providing substantial funding for research in engineering ($3.3 billion) and in mathematics and computer sciences ($1.1 billion). NASA will provide 10.8 percent, primarily in the fields of engineering, environmental sciences, and physical sciences. DOE will provide 10.1 percent, primarily in the fields of physical sciences and engineering. NSF will provide 6.4 percent, contributing between $0.5 and $0.6 billion to each of the following fields: physical sciences, mathematics and computer sciences, engineering, environmental sciences, and life sciences.

Federal obligations for research have grown at different rates for different S&E fields, reflecting changes in perceived public needs in those fields, changes in the national resources (e.g., scientists, equipment, and facilities) that have been built up in those fields over time, as well as differences in scientific opportunities across fields (appendix table 4-34 Microsoft Excel icon). Based on preliminary estimates for FY 2003, the major field of mathematics and computer sciences has experienced the highest rate of growth in Federal obligations for research, which was 7.8 percent per year in real terms between 1982 and 2003. Life sciences had the second highest rate (6.2 percent), followed by psychology (4.6 percent); environmental sciences (3.3 percent); social sciences, including anthropology, economics, political sciences, sociology, and other areas (2.3 percent); engineering (2.2 percent); and physical sciences (1.0 percent).

The trends in Federal support for these broad fields of research, however, may not reflect trends for the smaller fields that they contain. For example, within the broad field of mathematics and computer sciences, Federal support for research in mathematics grew 3.3 percent per year in real terms between FY 1982 and FY 2001, whereas support for research in computer sciences grew 10.9 percent.[32] Within life sciences during the same period, support for biological and agricultural research grew 6.0 percent, compared with research support for medical sciences, which grew 4.3 percent. Within the physical sciences, support for astronomy grew 2.7 percent, whereas support for physics declined 0.5 percent.

Caution should be employed when examining these trends in Federal support for detailed S&E fields because Federal agencies classify a significant amount of R&D only by major S&E field such as life sciences, physical sciences, or social sciences. In FY 2001, for example, 16.6 percent of the Federal research obligations classified by major S&E field were not subdivided into detailed fields. This was less pronounced in physical sciences and in mathematics and computer sciences, in which all but 7.6 percent of the research dollars were subdivided. It was most pronounced in engineering and social sciences, in which 27.3 and 63.9 percent, respectively, of the research obligations were not subdivided into detailed fields.

Federal R&D Tax Credit top of page

The traditional justification for tax incentives for research activities is that results from these activities, especially more basic or long-term research, are often hard to capture privately because others might benefit directly or indirectly from them. Therefore, businesses might engage in levels of research below those that would be beneficial to the nation as a whole. In this regard, direct funding and tax incentives are complementary fiscal tools. Tax incentives are thought to stimulate R&D activity generally across industries and technologies (Tassey 1996), whereas direct funding through government agencies (as well as certain industry-relevant academic research) stimulates R&D in targeted fields (e.g., health, energy, or defense) or by certain performers [e.g., Small Business Innovation Research Program (SBIR)].[33]

The Federal research and experimentation (R&E) tax credit was first established on a temporary basis in 1981 and has been renewed several times since.[34] It was last reinstated by the Tax Relief Extension Act of 1999 through June 30, 2004. The Bush administration and several congressional bills pending, as of this writing, propose to make the R&E credit permanent (Knezo 2002).

Several studies based on U.S. data from the late 1990s have concluded that a dollar in tax credit likely stimulates, on average, a dollar of additional R&D on a long-term basis, as well as smaller short-term effects (Bloom, Griffith, and Van Reenen 2002; and Hall and Van Reenen 2000). However, the studies caution that administrative costs are often ignored in most empirical studies. In addition, for a more complete assessment of this policy instrument, interactions with other components of corporate taxes and tradeoffs with other policies need to be integrated into purely cost-benefit analyses.

Structure of the Credit and Tax Data

A regular credit is provided for 20 percent of qualified research above a base amount based on the ratio of research expenses to gross receipts for 1984–88. Startup or younger companies follow different formulas. An alternative R&E credit is available for corporate fiscal years that began after June 30, 1996.[35] Both the regular and the alternative R&E credits include provisions for basic research payments paid to qualified universities or scientific research organizations above a certain base-period amount.

In 1999 (the latest year for which data are available), approximately 10,000 companies claimed $5.281 billion in R&E credits, about the same level as in 1998 (table 4-13 text table). However, not all R&E claims are allowed because there is a limitation on the reduction of a company's total tax liability. In 1999, 267 companies claimed $540 million for basic research, about 10 percent of the total R&E credit. The 1999 basic research credits were 36 percent larger than those in 1998, but the number of claims declined by half.

Federal Budget Impact

R&E credits are tax expenditures or government revenue losses because of preferential provisions. Tax expenditures from corporate income taxes relate mostly to cost recovery for certain investments, including research activities. Out-lay-equivalent is one of three accounting methods used to estimate these tax expenditures.[36] This method converts R&E credits into data comparable to Federal R&D outlays.

According to this measure, tax credit claims in 1999 were equivalent to outlays of $2.625 billion, or 3.5 percent of direct Federal R&D outlays in 1999 (U.S. OMB 2000) (appendix table 4-35 Microsoft Excel icon). Although R&E claims data for tax year 2000 are not available, the credit generated an estimated outlay equivalent of $2.510 billion, or 3.4 percent of Federal R&D outlays in 2000 (U.S. OMB 2001).


[25]  These shares represent a distribution of performer-reported R&D data. They are distinct from the budget authority shares reported subsequently, which are based on the various functional categories constituting the Federal budget.

[26]  R&D budget authority data represent a distribution of Federal source-reported data as opposed to performer-reported data.

[27]  Most of the $2.2 trillion Federal budget is reserved for mandatory items such as Social Security, Medicare, pension payments, and payments on the national debt. See appendix table 4-30 Microsoft Excel icon for historical data on Federal outlays and R&D.

[28]  The steep drop in space-related R&D in fiscal year 2000, as depicted in figure 4-9 figure, was the result of the National Aeronautics and Space Administration's (NASA's) reclassifying space station R&D to R&D plant.

[29]  The data reported here on expected R&D obligations in FY 2003 were collected before recent budget negotiations and the formation of the Department of Homeland Security. See sidebar "Federal R&D for Countering Terrorism" for data on these recent developments.

[30]  The Department of Defense (DOD) reports development obligations in two categories: advanced technology development, which is similar in nature to development funded by most other agencies, and major systems development, which includes demonstration and validation, engineering and manufacturing development, management and support, and operational systems development for major weapon systems.

[31]  In 2002, 69 percent of all Federal research funding was allocated through competitive merit review processes. Twenty percent was merit reviewed, but competition was limited to a select pool of applicants such as Federal labs or FFRDCs. The remaining 11 percent was allocated to specific performers either at the request of Congress or because timeliness or other factors limited the feasibility of competitive selection [U.S. Office of Management and Budget (U.S. OMB) 2003b].

[32]  For these subfields, the latest available data are for FY 2001.

[33]  The SBIR program is discussed later in this chapter in "Small Business S&T Programs."

[34]  This section covers the R&D tax credit in the United States. For R&D tax policies abroad, see the discussion of R&D promotion policies in "International R&D by Performer, Source, and Character of Work."

[35]  The alternative credit is a lower rate that applies to all research expenses exceeding 1 percent of revenues or sales. The rates were raised by the 1999 Tax Relief Act to 2.65–3.75 percent. Companies may select only one of these two credit modes on a permanent basis unless the Internal Revenue Service authorizes a change. The 1999 act also extended the research credit to include R&D conducted in Puerto Rico and other U.S. possessions.

[36]  The other two methods are revenue loss and present value. For a comparison of these methods, see U.S. OMB (2001).

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